Question

An asset is acquired using a noninterest-bearing note payable for $225,000 due in three years. Which of the following statements most likely is correct?

Multiple Choice

A. The fair value of the asset is less than $225,000.

B. All of the other answer choices are correct.

C. The total amount paid for the asset will be less than $225,000.

D. No interest expense will be reported over the three-year note.

Answer 1

The most likely correct statement is that the fair value of the acquired asset is less than $225,000, due to the implicit interest included in the note payable, despite it being noninterest-bearing.

Step-by-step explanation:

When an asset is acquired using a noninterest-bearing note payable, the accounting treatment recognizes interest implicitly included in the payment. Therefore, the most likely correct statement is that the fair value of the asset is less than $225,000. This is because the note payable is effectively an interest-bearing instrument in disguise, where the company will not explicitly pay periodic interest, but the total cost of the asset includes the interest component that compensates the lender for the deferral of cash flows.

So, when the asset is recorded on the balance sheet, it is at the present value of the future payment, which is the fair value of the asset, and this amount is typically less than the note's face value. Over time, the company will recognize interest expense using the effective interest method, even though it is a noninterest-bearing note, gradually increasing the carrying amount of the liability to reach $225,000 at maturity.